The Appian Fund returned –0.07% in March as markets reacted not to worldwide economic news, but rather to speculation as to how the Federal Reserve would interpret and react to such news. U.S. equities sold off early in the month on fears that positive economic news would cause the Fed to consider a change in monetary policy. The benchmark fluctuated throughout the month, ending in a loss of 1.58% for the S&P 500. Please note that we are making significant changes to the Appian Fund portfolio as of May 1st. These changes are described below.
Economic and Financial Market Overview
Stocks sold off sharply on March 6th following better-thanexpected employment news showing employers added 300,000 jobs in February. This was a strong jobs number in the aftermath of harsh winter weather in the Eastern U.S. and continued reports of widespread layoffs in the energy sector. Stocks rallied mid-month following disappointing February reports in both Retail and Manufacturing, with the latter showing lower output for the third consecutive month. Investors are also paying attention to the strong U.S. dollar and its negative implications for corporate profits. Large Cap companies typically derive 1/3 of their revenue overseas. Small Cap companies, in comparison, source approximately 1/5 of their earnings from foreign sales. In March, not surprisingly, the Wilshire Small Cap Index posted a gain of 1.28% while the Wilshire Large Cap Index returned -1.42%. In fixed income markets the Barclays Aggregate returned 0.46% for the month while the High Yield index fell by 0.53%.
Appian Fund Performance and Positioning
The Appian Fund posted a small loss in March. Fundamental strategies posted losses while most quantitative managers produced gains to offset them. U.S. Long Short Equity and Market Neutral European REIT posted losses of 1.36% and 0.80%, respectively, for the month. On the quant side of the ledger, Relative Value Arbitrage was flat while the Fund’s Tactical Currency added to the Fund’s performance and the Global Macro manager continued its string of positive performance, returning 4.06% in March. However, the Fund’s overall loss is disappointing and, as such, we are significantly rebalancing the Appian Fund portfolio as of May 1st.
Wilshire is removing two of the Appian Fund’s managers (which constitute 27% of the Appian Fund portfolio) from the platform as of May 1st and is replacing them with several new managers. These are not 1:1 replacements—the two managers are being removed for specific reasons, and four new strategies are being brought on to the platform for their own compelling attributes. The exiting managers are Relative Value Arbitrage and Event Driven. In both cases poor performance is the primary rationale, and we agree with Wilshire’s decision. They are more than aware that we need a stable of fully diligenced and high performing managers and strategies if we are to achieve our goals in the Appian Fund. To use a sports analogy, Wilshire is the General Manager and we are the Coach. We need the right personnel if we are to succeed, and, as such, we applaud their proactive approach to improving the platform.
An Introduction to Risk Premia Investing
A new segment of practitioners has emerged in the alternative asset management industry in the past three or so years to address the diversification challenges that were exposed by the Credit Crisis. We will refer to this approach as “Risk Premia Investing”, and the Appian Fund is investing in two such funds as of May 1st. Risk Premia investors view the world through styles and factors rather than asset classes and markets; they effectively look at the same investment world through a different lens than do asset-allocation based strategies. The general theory holds that investors are compensated for bearing risks, not investing in markets. Academics have long been able to identify and isolate those risks and the potential compensation available to those who bear them; however, implementing the strategies in portfolios poses a bigger challenge. As an example, there is a risk premia associated with investing in emerging markets relative to developed markets. Simply put, investors require a higher rate of return to invest in developing economies than, say, in the U.S. markets. Risk Premia practitioners attempt to isolate those risk premia factors and harvest them into investible form. This new type of investing resulted from the Credit Crisis in two ways. First, the limitations of diversification by asset class were exposed in the crisis as nearly all investible assets became highly correlated with one another. As such, there was no place to hide in traditional assets through the crisis. Consider high yield bonds and U.S. Equities: during the period 1986 through 2007 the correlation of the CSFB High Yield Index to the S&P 500 was 0.50. From January through September of 2008 that correlation figure spiked to 0.88. The reason they became so highly correlated is because much of the return in high yield bonds is a result of risk premiums associated with equity, not debt.
The second contribution of the credit crisis to risk premia investing was in the dismantling of investment bank proprietary trading desks (which looked much like Global Macro Hedge Funds) brought on by Dodd Frank. With the onset of the new regulations, major banks needed a way for these groups of trading and fund management staff to continue to act as profit centers. The solution for the investment banks, to generalize, was to turn these professionals around to face clients, offering exposures similar to those which may have been previously managed only inside the proprietary book.
These exposures are now offered in the form of risk premia swaps, and a few managers have emerged to invest in these securities. Two such managers are new to the Wilshire Platform. We have spent the past 60 days diligencing these managers, their value proposition, strategy, which markets they will perform well or poorly in, etc.
The first fund we are investing with is a Global Factor Multi- Strategy Risk Premium strategy (“Global Factor RP” on our tear sheet). Somewhat analogous to a global macro hedge fund, the manager uses a systematic method to apply academically proven and economically sound rules-based styles of investing to exploit sources of return rooted in: investor behavioral biases, mispricings inherent in market micro structure, and risk premia from such factors as growth, inflation, liquidity and tail risk. They will represent 17% of the portfolio.
The second fund is a Global Momentum (“Global Momentum RP”) strategy that invests strictly in those risk premia associated with momentum in the following asset classes: Currencies, Equities, Interest Rates and Commodities. Their strategy is somewhat of a subset of the Global Factor Fund. Momentum strategies perform well in directional markets, including sharply negative markets; and, as such, they will serve as a hedge for the entire portfolio.
We are cautiously optimistic about the inclusion of these managers in the portfolio. We do believe we are on the front end of the curve when it comes to investing in these strategies. Assets Under Management (“AUM”) of the entire Risk Premia category is $60 Billion (notional). In contrast, the AUM of hedge fund industry is 50 times larger, or $3.02 Trillion. Oftentimes in the asset management business the best returns can be found in the early days of new or emerging strategies. While that is not the primary driver of our decision to move in this direction, it is consistent with our investment philosophy of being contrarian. Wherever possible, we try to move away from the corpus of capital.
We will have more to report on this topic. Please reach out to us if you would like further information.
Attribution for March is as follows:
|Attribution by Strategy|
|Relative Value Arbitrage||-0.01%|
|U.S. Long/Short Equity||-0.24%|
We appreciate your interest in the Appian Fund and invite you to reach out to us at any time.